In this video, Abhinav is explaining Residential status rules under US tax law especially from point of view of Indians on H1B visa in US
Video transcript below (kindly note that auto-transcription can contain errors):
Hello, and welcome. In this video, I’m sharing the tax residency rules, in USA. Right? So in USA, there are like in India, we have a specific rule that, you know, in section 6 of income tax act of India, that depending upon the number of stay days staying in India, you qualify as a resident or a, not ordinary resident or a nonresident. Similarly, in USA, also, there are certain rules.
Now these rules are in some way different from the Indian rules. So, let us understand those rules, what those rules say. Right? So now, see, in India, the, tax rules, the residency rules are determined from financial year, which is April 1st to March 31st. However, in USA, the tax year is calendar year, which is January 1 to December 31st.
Now very, very important thing. If you are a US citizen, right, you are a resident for all IRS purposes. That means for all taxation purposes, you qualify as a resident of USA irrespective of wherever you live in the world. So once you either are born as a US citizen or you get US citizenship, then wherever you move in the world, you will be treated as a resident for all the compliance obligations, that will come to you. Right?
So it’s very important to understand your tax compliance obligation, that if you are a resident, you’ll you if you’re a US citizen, you are a US resident for all IRS purposes. Now, let us take into consideration where person is not a US citizen. Right? For example, someone who has traveled from India on H1B visa and is working in the US. So, in that case, how that person’s residential status will be calculated.
So what the IRS says is that if you’re not a US citizen sorry. It’s not any of the above. It’s any of the below. Any of the below makes the person qualify as a resident alien. So in US, there is a concept of resident alien.
Right? So in in in, no, layman terms, what they will say that this is not our citizen. He is an alien. Right? He’s an alien, but he’s a resident alien.
That means he is somewhere he is, kind of, residing, he fills, any of the criteria, so that’s why he qualifies as a resident alien. Right? So what are the what are what are the two conditions? The first condition is green card test. That means the person has, at any time during the year, was a lawful permanent resident of the United States, and in the common language, it is said to be that the person is having a green card.
Right? So that is the first condition that the green card test, that the person has at any time, was a lawful permanent resident. 2nd condition is, this is a bit where some, you know, issues come which is the Substantial Presence Test. Now Substantial Presence Test says both the conditions mentioned below need to be satisfied. Right?
What are the two conditions? Physical presence in United States for at least 31 days in that year. That means, for example, 2023, you need to be there in US for 31 years in 31 days in that year at least. 2nd, physical presence in the United States for at least 183 days during the 3 year period including this year, counting all days of presence for this year, 1 third of the last year, and 1 sixth of the last year. So now this is a bit kind of tricky.
Like in Indian tax law, if you see, section 6, it’s very clear that, you know, 1 more than 182 days, if you’re there, then you are qualified as a resident. However, in US, this substantial presence test has two conditions. Both need to be satisfied. 2, for the person to clear off the substantial presence test. So just let’s understand.
US citizen, you are a resident for all IRS purposes. If you’re not a US resident or you’re not a US citizen, then any of the above. So if you’re a green if you are a green card holder, then you become a resident . Right? Straight away.
You don’t need to check the Substantial Presence Test. However, if you’re not a green card holder, then the Substantial Presence Test will come into question, where you need to ensure that the both the conditions are satisfied. 1 is physical presence for at least 30 31 days. 2nd, physical presence for the 1 33 days during the 3 year period including the present year. Now how to understand this, this particular condition, of substantial presence test?
Okay. Then there’s this thing that if a person is not a now what happens is the person is doesn’t qualify as a green card test and the substantial presence test. In that case, the person and he is also not a US citizen, then the person qualifies as a nonresident alien or a nonresident as per the US tax law. I’ll come to the tax implications of each of the above statuses. Now as regards to substantial presence test, this particular thing, 183 days during the 3 year period, IRS has given in its publication a kind of an example which I am reproducing here.
For example, IRS says that you are physically present in the US on 1 20 days in each of the years 2021, 22, and 23. Now to determine if you meet the substantial presence test of 2023, count the full 120 days of presence in 2023. Right? We count the entire 120 days. 40 days in 2022.
What is 40 days? 1 third of 120. Right? 1 third of the previous year as compared to the year in question. Right?
So you add 1 40 days. Then 20 days of 2021. 1 sixth of 2021. That is 1 6th of 120 equals to 20. So you total up 1 20 plus 40 plus 20.
This total becomes 1 80 days. Now since this is 1 80 days, and what is the substantial the presence test requires that you need to be present for at least 183 days during the 3 year period. So you are not meeting this condition. So if you are not meeting this condition, then you are not meeting the substantial presence test. Right?
And if you are not meeting the substantial presence test, if you are not meeting the green card test, then you qualify as a nonresident. Right? Okay. Now there are some additional, things that we need to take into account. Right?
Now there are detailed guidance by the IRS on each of the things. I will not take them here because then it will be a very long post. You can refer to the ir IRS publications in this matter. So I’m just giving a kind of a bullet pointer so that you can do your research. Now some cases you are allowed to make elections which override the green card test and the research represents test.
What are the elections? 1st year you can choose. So for example, if you are if you have, this is the first year that you’ve been to the US and you can choose to be a resident or a non resident. That is something you can choose. 2nd, if at the end of the tax year, which is like 2023, you are married, right, at the end, which is December 31, 2023, you are married and one spouse is a US citizen or a resident and the other is not, then you can choose to treat the non resident spouse as a US resident for tax purposes.
So that is again a election that you can right? Now one important thing that even if you meet met the substantial presence test, you can still be treated as a non resident if, right, there are certain conditions. You are present in US less than 183 days. You had a closer connection during the year to one foreign country in which you have a tax home than to the United States. For example for example, you are an Indian who went to the US, you were you were living in the US, you met the substantial you cleared the substantial presence test.
However, your tax home is in India, for example. So, basically, the permanent your permanent home that is there is in India, which is the closer connection test, then that is one thing where you can still be treated as a NR. Maintained a tax Form in that foreign country during the entire year, had not taken any steps towards gaining the US green card. Right? If you have not made any application towards obtaining the green card, in those certain situations, you can still be treated as a non resident alien.
Right? However, a closer examination has to be done for the fact of the case to see whether the you qualify in this. Right? Okay. Now some other points.
Now remember one thing. So one is this tax state residency rules as per the USA tax law. There’s one other thing which is that India US DTA or, for example, if you are also a tax resident if you are also a tax resident of Spain, you can, like, you can check the Spain US DTA. Now, DTAA contains specific, provisions with respect to taxability. Right?
So, for example, India USDTA, if you see article 4 says that depending on the there’s a kind of a set rules. Right? And, then you can tie break to a particular country. Right? So, for example, if I if I qualify as a tax resident of, resident alien as per the USA tax law, however, I checked the checked the DTAA, remember the DTAA overrides the internal tax code of the country so the DTAA overrides the Indian tax law and it overrides the USA tax law, right?
So if as a taxpayer it is more advantageous for me, I can go and, you know, rely on the DTA provisions and I can check my residency as per the DTA and if I qualify as a not as a tax resident of India as per the DTA, I can take advantage of that. Right? And rely on that to count my taxable to calculate my taxable income. Right? So that is one more option that you have, especially in cases where, you know, a cross border kind of transactions are there.
Person is of some other nationality working in some other country. So it is very, very important not only check the internal tax code of the particular countries in question, but also check the DTA. Right? So if there is a favorable provision in DTA, we can take that. Right?
Now if you are a US resident for tax purposes and you need to establish your US residency for claiming treaty benefits with a foreign country, then you need to apply to IRS in Form 8802 to get a tax residency certificate. Now this is applicable where that, for example, India will tax you on your NRO fixed deposit at 31.2%. Right? Which is a standard default tax rate. Right?
Now if if you qualify as a US resident, the India US DTA allows you a reduced rate of, TDS, at 15%. For that basically you need to get a tax residency certificate which is a kind of a proof that IRS gives to you that yes this person is a tax resident of USA So for doing that you can apply in Form 8802 and the tax residency certificate will be issued in Form 6166, right, so that is there. Then there is this thing that you can be both a non resident and a resident for US tax purposes during the same year. This occurs, especially in the year that you arrive, either you arrive in the US for the first time, or where you can elect to be a non resident or a resident, or you depart from the United States. So in those situations you can be a dual kind of a resident and in this case the IRS guidance is that you can file a dual status income tax return right so that you can take care of Right?
So now let’s discuss the tax incidence that is based. So we have discussed, the various rules on the, as per the USA tax law. Now what will be the tax incidence, taxation as per the residential status? Now understand that if you’re a US citizen or a US resident alien, your worldwide income is taxable in US irrespective of your place of stay during the calendar year. Right?
Wherever you are, your worldwide income will be taxable. Right? Now in case of foreign incomes, like, for example, you qualify as a US, citizen, but you have certain incomes from India or you have certain incomes in, like, China. Right? So foreign incomes, there is a specific foreign earned income exclusion FEIE, which you can claim up to US dollars 1 lakh 20,000, which is for the limits for 2023, and certain foreign housing related deductions you can claim in your tax return there is a specific tax return you will need to fill and you can claim these deductions.
So, main point is that if you’re a citizen or a resident alien the worldwide income gets taxed so the tax implication is much more. So always your preference will be if you want to reduce your US tax liability is to see if you can if you qualify as a non resident alien because then only the US income is taxed. So for non resident alien, only the US source incomes or those or from those conducting a trade business in the United States, like working for a US employer or having some properties in USA from which you get the rent, only those incomes are liable to be taxed to you. US can only tax those income, not the worldwide income, and there is also a provision of a flat 30% withholding tax, on the incomes. And, if unless you submit some kind of a documentation that like w 2ben, right, w 2ben, that documentation if you provide, like, for example, if you’re a tax resident of India and you provide that documentation, then there will be a reduced tax rate of, like, 1%.
Right? So that depends. If you qualify for that, you can get that. Otherwise, by default, there is a flat 30% withholding tax of the whatever US, the financial institutions, they will deduct that much tax. And you can file the tax return and claim the, the amount, or better option is to file those relevant exemption Forms to those financial institutions, so they will they will deduct a lower tax.
Right? So this is basically an overview, in this video I thought to explain on the residential status of USA in the tax incisions. Do please, share your feedback and any queries you have on by way of comments and I will help you to the best of my ability thank you so much for watching this video thank you so much thank you